As Apple makes rare sales warning, have we reached peak smartphone?

After a decade of unstoppable growth, the smartphone industry is facing a reckoning, writes John Kennedy.

Apple has issued a rare sales forecast indicating that the company’s fiscal Q1 will be weaker than previously expected. In plain English, sales of the latest line-up of iPhones didn’t go so well during the pivotal holiday quarter.

‘These and other factors resulted in fewer iPhone upgrades than we had anticipated’– TIM COOK

However, in a letter to shareholders CEO Tim Cook revised the company’s guidance for revenue in the first quarter. He said that the company is expecting revenue of around $84bn for the quarter, with a gross margin of 38pc and operating expenses of around $8.7bn.

“Based on these estimates, our revenue will be lower than our original guidance for the quarter, with other items remaining broadly in line with our guidance,” Cook told shareholders. “While it will be a number of weeks before we complete and report our final results, we wanted to get some preliminary information to you now. Our final results may differ somewhat from these preliminary estimates.”

We previously reported that Cook indeed warned that the company may miss its Q1 targets. In its Q4 results, which saw Apple report revenues of $62.9bn based on sales of 46.9m iPhone devices, he said that the crucial holiday quarter may not meet Wall Street expectations.

Apple rival Samsung also recently warned that it may face troubles ahead on the sales front.

Time machine

Cook said that there were a number of factors to be considered in why it may not meet original expectations, and a lot of it had to do with timing.

“When we discussed our Q1 guidance with you about 60 days ago, we knew the first quarter would be impacted by both macroeconomic and Apple-specific factors. Based on our best estimates of how these would play out, we predicted that we would report slight revenue growth year over year for the quarter. As you may recall, we discussed four factors.

“First, we knew the different timing of our iPhone launches would affect our year-over-year compares. Our top models, iPhone XS and iPhone XS Max, shipped in Q4 2018, placing the channel fill and early sales in that quarter; whereas last year, iPhone X shipped in Q1 2018, placing the channel fill and early sales in the December quarter. We knew this would create a difficult compare for Q1 2019, and this played out broadly in line with our expectations.

“Second, we knew the strong US dollar would create foreign exchange headwinds, and forecasted this would reduce our revenue growth by about 200 basis points as compared to the previous year. This also played out broadly in line with our expectations.

“Third, we knew we had an unprecedented number of new products to ramp during the quarter and predicted that supply constraints would gate our sales of certain products during Q1. Again, this also played out broadly in line with our expectations. Sales of Apple Watch Series 4 and iPad Pro were constrained much or all of the quarter. AirPods and MacBook Air were also constrained.

“Fourth, we expected economic weakness in some emerging markets. This turned out to have a significantly greater impact than we had projected. In addition, these and other factors resulted in fewer iPhone upgrades than we had anticipated,” Cook said.

Bruised, not broken

So, have we reached peak smartphone? No, the market is just maturing and people are buying smarter.

After more than a decade of stellar growth, the reality is that rather than people rushing out and buying a brand new device every year, they want to get longer out of them. They will still buy the devices but will hold on to them longer, nurture them with updates and protect their investment.

In their rush to create state-of-the-art products, the makers’ phones are simply getting too damned expensive, with flagship devices such as the Apple iPhone XS Max starting at $1,099. This trend is not going to end any time soon and it is likely the higher-end phones will continue to get pricier.

If anything, a correction is happening in the smartphone space, and manufacturers such as Apple are going through a painful change where they realise they will have to sell fewer, higher-end devices at a higher price to maintain their enviable margins, while also creating something for the middle market to maintain momentum and unit sales. Hence the arrival of the XR, which doesn’t have an OLED screen, but retails from $449 and features most, if not all, of the bells and whistles of its pricier siblings. Unless you are really fussy about specs, you can barely tell the difference.

Samsung, which provides most of the displays and chipsets for the smartphone industry, is bracing itself for weaker demand for displays and memory components.

The higher end is where the margins will be but the lower-to-middle end will be where the action will go in terms of competition, with players such as China’s Huawei and Xiaomi only happy to furnish consumers with affordable, innovative and relevant Android devices.

Another awkward reality is that unlike a decade ago, when telecoms firms would bite Apple’s hands off to get just one iPhone for a customer, these companies are offering fewer tantalising subsidies than before.

China’s economic tiger has less byte

Even though most of Apple’s products are manufactured in China, the company underestimated the impact of the US-China trade war and the hard fact that China’s economy is slowing down.

“We did not foresee the magnitude of the economic deceleration, particularly in Greater China. In fact, most of our revenue shortfall to our guidance, and over 100pc of our year-over-year worldwide revenue decline, occurred in Greater China across iPhone, Mac and iPad,” said Cook.

When you count in these factors, you can see why Services represents the fastest-growing group in the Apple empire, suggesting a future where the company would be happier to live off more reliable recurring revenue than solely off unit sales.

Cook said: “Lower-than-anticipated iPhone revenue, primarily in Greater China, accounts for all of our revenue shortfall to our guidance and for much more than our entire year-over-year revenue decline. In fact, categories outside of iPhone (Services, Mac, iPad, Wearables/Home/Accessories) combined to grow almost 19pc year over year.”

“While Greater China and other emerging markets accounted for the vast majority of the year-over-year iPhone revenue decline, in some developed markets iPhone upgrades also were not as strong as we thought they would be. While macroeconomic challenges in some markets were a key contributor to this trend, we believe there are other factors broadly impacting our iPhone performance, including consumers adapting to a world with fewer carrier subsidies, US dollar strength-related price increases and some customers taking advantage of significantly reduced pricing for iPhone battery replacements.”

Many of these changes were unforeseen. Some were expected. But they do in part explain why we have not seen queues of fanboys and fangirls outside Apple Stores on iPhone launch days in a very long time.